The Great Depression 2.0

In a recent article for Time.com, British historian Niall Ferguson compared the current economic crisis to the Great Depression of the early twentieth century. He notes the similarities between the drastically reduced liquidity of both economies and the global ramifications of the two situations. He argues that a major cause of the global depression was the passage of the Smoot-Hawley Tariff Act in 1930. This bill increased duties on thousands of imported goods and signaled to the rest of the world that “partisan self-interest had trumped global leadership on Capitol Hill.” The result of that, along with many other mistakes, was catastrophic. The number of people who lost their livelihood can hardly be numbered. The effect on the social good in this country, not to mention the rest of the developed world, was astounding.

The similarities between this sub-prime mortgage crisis and the Great Depression are startling. Contrary to popular perception, the global depression was not triggered by Black Thursday, Black Monday or Black Tuesday. Historians have asserted that the cause of the depression was a limitation of credit due to a wide range of bank failures. Sound familiar? The reason it is now nearly impossible to secure credit in the United States is because of the failures of so many major financial institutions. In the 1930’s banks were so desperate for liquidity, that they began selling off their assets as fast as they could. Just recently, Wachovia put a freeze on Short Term Fund withdrawals so that they can preserve what liquidity they have left.

What does this all mean? Ferguson connects the dots between the $334 Billion in losses reported by U.S. banks, the failure of those banks to raise enough new capital, the reduction of credit to businesses, the inability of those businesses to upkeep their inventory, and the eventual increase of laid off workers. Expect the unemployment rate to rise dramatically. Ferguson also offers that the United States is heading for a recession; any denial of this is simply wishful thinking. The main interest that citizens should have is whether that recession will be relatively minor, such as the one in 2001, or the second coming of the Great Depression. One positive difference between the Great Depression and today is that at that time, it was thought to be the most prudent to maintain a balanced budget during recessions even at the cost of cutting welfare, and other social programs. Modern economic theory suggests that having a deficit during a finical crisis is beneficial. With a large deficit already in place before this crisis, expect an even larger one afterwards.

What seems to be getting pushed under the rug in all of the debate about bailouts and accountability is the fate of homeowners. It is now estimated that 13% of homeowners with mortgages will loose their homes. Without lending credence to the already tired cliché of “Main Street instead of Wall Street,” there still remains a question of what to do about families who are in real danger of foreclosing on their homes. Certainly the need to reestablish the confidence of global investors, markets, and lenders is important, but without direct aid to individuals who need it to secure their homes, I fear we are closer to the Great Depression 2.0 then ever. Saving AIG is important, but with money going to stop them from failing, where does that leave families whose mortgage payment is due at the end of the month? Restructuring of unfavorable loans will help struggling families more than the stock market rebounding.